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Caspian Sea Drinks is considering the production of a diet drink. The expansion of the plant...

Caspian Sea Drinks is considering the production of a diet drink. The expansion of the plant and the purchase of the equipment necessary to produce the diet drink will cost $26.00 million. The plant and equipment will be depreciated over 10 years to a book value of $3.00 million, and sold for that amount in year 10. Net working capital will increase by $1.08 million at the beginning of the project and will be recovered at the end. The new diet drink will produce revenues of $9.48 million per year and cost $1.74 million per year over the 10-year life of the project. Marketing estimates 11.00% of the buyers of the diet drink will be people who will switch from the regular drink. The marginal tax rate is 32.00%. The WACC is 15.00%. Find the NPV (net present value).

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Expert Solution

Profit = (revenues-cost)*(1-switch%)
=(9480000-1740000)*(1-0.11)
=6888600
Time line 0 1 2 3 4 5 6 7 8 9 10
Cost of new machine -26000000
Initial working capital -1080000
=Initial Investment outlay -27080000
100.00%
Profits 6888600 6888600 6888600 6888600 6888600 6888600 6888600 6888600 6888600 6888600
-Depreciation (Cost of equipment-salvage value)/no. of years -2300000 -2300000 -2300000 -2300000 -2300000 -2300000 -2300000 -2300000 -2300000 -2300000 3000000 =Salvage Value
=Pretax cash flows 4588600 4588600 4588600 4588600 4588600 4588600 4588600 4588600 4588600 4588600
-taxes =(Pretax cash flows)*(1-tax) 3120248 3120248 3120248 3120248 3120248 3120248 3120248 3120248 3120248 3120248
+Depreciation 2300000 2300000 2300000 2300000 2300000 2300000 2300000 2300000 2300000 2300000
=after tax operating cash flow 5420248 5420248 5420248 5420248 5420248 5420248 5420248 5420248 5420248 5420248
reversal of working capital 1080000
+Proceeds from sale of equipment after tax =selling price* ( 1 -tax rate) 2040000
+Tax shield on salvage book value =Salvage value * tax rate 960000
=Terminal year after tax cash flows 4080000
Total Cash flow for the period -27080000 5420248 5420248 5420248 5420248 5420248 5420248 5420248 5420248 5420248 9500248
Discount factor= (1+discount rate)^corresponding period 1 1.15 1.3225 1.520875 1.7490063 2.0113572 2.3130608 2.66001988 3.0590229 3.517876292 4.045558
Discounted CF= Cashflow/discount factor -27080000 4713259.13 4098486.2 3563901.044 3099044.4 2694821.2 2343322.8 2037671.989 1771888.7 1540772.77 2348316
NPV= Sum of discounted CF= 1131484.21

jeff jeffy answered 4 months ago
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